Your pension is likely to be the second biggest asset you own after your home and therefore if you die it’s important to understand whether this wealth can be inherited.

There is no one rule when it comes to the inheritance of pensions. There is a complicated mess of different rules for different types of pensions and scenarios.

Understanding what rule applies to you and your pension means you can make the right choices. This ensures your pension is passed onto the right person with as little tax paid as possible.

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VIDEO TRANSCRIPT

When talking about pensions there are basically 3 types:

State Pension
Defined benefit pensions
Defined contribution pensions

Let’s start with the State Pension which is fairly simple.

For the Basic State Pension your spouse or civil partner may be able to apply and use your National Insurance Contribution record if it is more complete than theirs. This in turn could mean they replace their own State Pension with yours.

If you have built up entitlement to the Additional State Pension (otherwise known as S2P or SERPS) then your spouse or civil partner will be able to claim a percentage of this. The exact amount will depend on when you were born.

You cannot inherit your parents’ State Pension and the State Pension cannot be passed onto a child. But if you are already receiving your State Pension and don’t need the extra funds you could always use it to make regular gifts to your children.

Defined contribution pensions are pots that you pay in to and invest. They can be workplace pension schemes or private personal pensions. This pot grows during your working life and is ready for you to cash in when you retire.

If you have a defined contribution pension and you have not converted it to an annuity then whatever is left in the pot when you die can be passed onto your spouse, child or whoever you wish. You can split the pot up and allow different people to inherit different percentages.

If you have converted your pension to an annuity and are receiving a regular pension income then it will depend on what option you chose at the time as to what happens to this income when you die. For example, did you opt for a widows pension?

Also known as final salary pensions and the category of most public sector pensions.

Rather than building up a pot for retirement, you instead are ‘guaranteed’ an income for life at an agreed retirement age.

Whether this type of pension can be inherited will depend on the rules of each individual scheme, but usually the following options are available:

Some form of lump sum death benefits.
Reduced income for the surviving spouse or civil partner.
Some form of pension passed onto a dependent child if no spouse or civil partner exists.

If you find the above options unsatisfactory then you may have the option to transfer your defined benefit pension for more flexible death benefits.

Before considering the tax position on pensions that are inherited it is vital to understand that pensions are NOT dealt with via your Will on death. Your Will cannot direct what happens to a pension on death.

You must complete an ‘Expression of Wish’ or ‘Nomination of Beneficiaries’ form for each pension you are part of as this will allow you to select who should inherit your pension. Please contact your pension scheme administrator for the form if you have not done so already.

The tax side of things for State Pension and defined benefit pension income that is ‘inherited’ is relatively straight forward. The spouse or civil partner will pay Income Tax on this income at their marginal rate at the time.

For defined contribution pensions the situation is more complex.

To start with there is good news. Pensions are not usually subject to Inheritance Tax providing you do not die 2 years after transferring a pension to a different provider. This makes pensions a fantastic Inheritance Tax planning tool.

Tax that is due on pensions that are inherited will depend on what age you die and whether you have accessed your pension pot.

Key rules:

If you die before age 75 then there is usually no tax to pay when the pension is passed on after death, providing the person inheriting does so within 2 years.
If you die after age 75 then Income Tax will be due on the money taken out of the pension pot by the person inheriting it. This will be at their marginal rate.


If your combined pension pots are worth more than the Pension Lifetime Allowance (£1,073,100 at the time of writing) at the time of your death then your beneficiaries may also pay the Lifetime Allowance charge.

The key as always is to understand your position now so you can plan appropriately.

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